The news is full of stories about how the bond market seems to be defying the Fed. While it is not yet clear what the drivers of the recent sell-off in bonds truly are, the action bears watching.
As I mentioned previously, there are both innocent and sinister explanations for why bonds might be selling off. The innocent explanation involves a return to economic health that is being discounted in the bond market. The idea here is that a return to economic health will include both the cessation of Fed bond buying activity (QE II) and higher interest rates. Under this scenario, which is supported by recent economic data, one does not want to be holding bonds, which will only lose value over time. Best to beat the rush and sell them now.
The sinister explanation involves the idea that the Fed is losing control of the market and is not as powerful as some might have thought. This is the angle that the WSJ is playing up today:
Markets Defy Fed’s Bond-Buying Push
The Federal Reserve’s decision to spur the economy with a $600 billion round of bond buying was among the most controversial in its history.
Fed officials quarreled over whether to proceed. At worst, some members argued, such a move risked whipping inflation to dangerous levels.
Six weeks later, the bond program looks more like a water pistol than a cannon—and the reasons explain the immense and strange challenges of steering monetary policy in the aftermath of a financial crisis when short-term interest rates are already near zero.
by dbworld 
